The Big Short: Chapter Summary (Chapter 10 and Epilogue)
By the time things began to seriously fall apart, it became obvious that this was no longer a game of good versus bad, stupid versus intelligent, or irresponsible versus responsible. Those factors may have all played into events, but what was clear was that everyone—good and bad, winners and losers—were in it together. The financial disaster was threatening to take down an entire system, not just a rotten portion of it. Eisman likened it to Noah watching from the ark: he and his family were safe, but it was still not an enjoyable experience to watch the whole world as he knew it being destroyed.
FrontPoint’s winnings--Of the three star hedge funds, FrontPoint’s gains were the most astounding—up from $700 million to more than twice that at $1.5 billion. At that point, Vinny and Danny were ready to settle their bets, but for Eisman, the crusade hadn’t ended. In his view, the poor and middle-class were not to blame for their financial misbehavior: it was the rich—the knowledgeable Wall Street financiers—who had duped them into cooperating, and he was on a rampage against them. Furthermore, Eisman’s assessment was that since the value of the loans was zero, their insurance (the credit default swaps) had to increase, which made it worthwhile for Eisman and his partners to hang onto their investment for now.
The leveraging of Wall Street--FrontPoint’s partners had been extremely thorough in their preparations for what they called “Armageddon.” Their bet included not only credit default swaps but the stocks of practically every financial company with any involvement in the subprime mortgage market. By March 14, 2008, the day Lewis named “Armageddon,” most Wall Street firms had become seriously leveraged, which in this case meant that the debt they had used to purchase their assets was far greater than their capital. The worst was Bear Stearns at a ratio of 40:1. On the other end was Goldman Sachs at 25:1, which was still high and came with a certain amount of doubt regarding its accuracy. Exactly what assets the various firms owned no one seemed to know, but according to Lewis, the tiniest decrease in their value would tip the firms into bankruptcy.
All hell breaks loose--That moment never came. Bill Miller had just delivered a short informal talk from his chair, and now Eisman, apparently preparing to pack a wallop, headed for the podium. Eisman’s insistence on formality at what was supposed to be a relatively informal event should have by itself commanded the attention of his audience. But for some reason, it didn’t. When the FrontPoint partners elected to attend, they knew that it would be a particularly active trading day—they just didn’t know quite how much drama was in store, and they thought that watching Eisman would be more entertaining. As Lewis describes the scene, Eisman’s speech began to an audience of men glued to their devices as Bear Stearns’ stock began its rapid and fateful descent from $53 to $29 a share in less than an hour. March 14 was a Friday. By the beginning of the following week, J.P. Morgan would have bought Bear Stearns for what ultimately would be adjusted to $10 a share but at the time was all of $2.
Why it happened--What had seemed like such a stable Wall Street firm had, like so many others involved in the subprime mortgage market, become overleveraged and ended up paying for it. The question that arises is: how did it happen? Lewis explains it as being the outcome of a two-phase operation of the subprime mortgage market. AIG FP’s participation as the major insurer had whet the market’s appetite for the enormous amounts of money that could be made; so when AIG finally woke up and pulled out, Wall Street was motivated to quickly find ways to keep its lucrative money-machine running. From beginning to end, it had been a shady process. No one knew quite how much had been generated in subprime CDOs, except that it was about $300 billion, most of which was rated triple-A and kept off the books.
The morning they gave their talks, neither Eisman nor Miller had been aware of the dramatic decline of Bear Stearns’ stock. The way Lewis tells it, the news was broken to them by a young man at the back of the room, after which practically the entire audience charged out, leaving Greenspan to deliver his speech to a roomful of empty seats.
The scene switches to Cornwall Capital, who, having amassed $135 million, are now struggling with the same Armageddon-like feeling as they ponder the safest options for managing their newly gained wealth. Like FrontPoint and Scion, their spectacular gains and the situation that spawned them was a mixed event that brought its share of pain and doubt along with, for them, an unprecedented amount of money. They wondered about the sanity and fairness of the American democratic system, which they deduced was “rigged,” and they plotted ways of redressing the financial wrongs inflicted by the rating agencies on unsuspecting investors. They even went so far as to seek out lawyers to help them in their quest, astutely avoiding those based in New York; but they were turned away for being “nuts.”
Foretelling the doom of a system--Cornwall Capital’s sense of “Armageddon” exceeded the general notions of global financial disaster. Cornwall’s vision was of vast sociopolitical upheaval—of the end of capitalism, as Charlie had previously told his mother. Now Charlie, because of his need to discuss his observations and insights, spent long hours on the phone with one of his former professors, an expert in financial history. What the professor found most interesting was that these deeply insightful and original observations were coming from someone who had shown no prior interest in money—at least, not on the surface. Charlie’s motive, it seemed, was not greed but something broader, more philosophical and altruistic.
That was why the events of September 18 meant more to Charlie and Jamie than the explosive demise of a number of Wall Street institutions. Their concept of Wall Street’s stability, based on the notion of its seemingly savvy focus on personal advantage, was now crumbling as they realized that the so-called financial experts and the official agencies didn’t know what they were doing.
Michael Burry, too, was feeling the negative effects of the general financial disaster occurring all around him. The arrests of the two Bear Stearns hedge fund managers, Matthew Tannin and Ralph Cioffi, had him wondering whether it wasn’t time to shut down his own hedge fund. His investors had been singularly unappreciative despite the massive returns he had generated, nearly 500 percent from the fund’s starting date—an astounding feat, especially when compared with S&P’s 2 percent return. He had earned them hundreds of millions of dollars, but that didn’t seem to matter.
Credit where credit was not due--Burry was also intensely bothered by the fact that the media gave him little to no credit for his achievements, to the point that Scion wasn’t even listed in the top 2007 hedge funds, even though it far outdid most. “The squeaky wheel gets the grease” seemed to apply in this case, too: whoever cultivated the media’s attention got the credit, meaning that the outcome once again rested on what Burry felt would never be his strong point—social skills.
The shutting down of Scion--On November 12, 2008, he sent his investors an email informing them that he was closing the fund. He had experienced too much that was negative: investor mistrust and antagonism, lack of general recognition, partner and employee problems, and most recently, personal anxiety that had led to disturbing physical and emotional manifestations. He felt alienated from the world, which seemed to resent his superior insight.
The last of the credit default swaps--Burry’s lawyer, Steve Druskin, was left to clean things up once the fund had closed. Druskin mentions two leftover credit default swaps that he says Burry had kept “just for fun,” out of curiosity over the final outcome. That outcome wasn’t due until 2035, but the bets had been on Lehman Brothers, and Lehman was now defunct. Burry had already been paid his $10 million total on a $200,000 bet, and it seemed to Druskin that nobody cared about the existence of these two bets anymore—that in all likelihood, the contracts probably no longer existed. There is something poignant in the way Lewis tells the story, something anticlimactic and almost sad, as though a great investment fund had come and gone, and no one seemed to care.
When Lewis returns to FrontPoint’s story, Danny Moses’ panic attack seems to have passed. We find Danny, Vinny, and Porter sitting on the steps of St. Patrick’s Cathedral, waiting for Eisman to catch up as he slowly walks toward them. The feeling is almost surreal. Something monumental has just happened, and none of the people walking by seem to have noticed.
Eisman’s transformation--Some time ago, Steve Eisman’s wife, Valerie Feigen, and his therapist conspired to pressure him into learning some manners. They hardly needed to try anymore because, since the passing of financial Armageddon, Eisman had gone through some changes. Once the war was over and there was no longer an underdog to defend and a bunch of bad guys to harangue, Eisman’s combativeness was no longer necessary. He had been right, and he and his partners had won—in a big way. Now a celebrity of sorts, with an expert opinion that everyone wanted to hear, he had to go through an inflated phase, while his wife Valerie bit her lip and hoped it would soon pass. But it did pass, and remarkably, Eisman—with a little help from Valerie and his therapist—calmed down and learned to be pleasant and even considerate. He even enjoyed it and felt bad if he inadvertently, out of habit, insulted or taunted someone who didn’t deserve it. His natural instinct to defend the underdog had now turned the tables on him: the people who had seen themselves as being on top were now the losers, and Eisman felt that he had to adjust his behavior accordingly.
Waiting for the final wave--Eventually, Eisman caught up with his partners. There, on the steps of St. Patrick’s, they mused about the irony and justice of the recent events that had decimated the financial system and made them all immensely wealthy. The final chapter comes to an end as it ponders the hidden role of money in our lives—how a poor decision made today in one area will affect another and another down the road, until every related action eventually fails. So it was with the initial subprime loans, all the way to their final form as synthetic CDOs. But that was the tricky thing: the underlying truth took a while to catch up with the overt reality, yet eventually it did. As Eisman and his group stood on the steps and watched the passersby, they wondered when the people would awaken. When would the final wave arrive?
EPILOGUE: A BYGONE AGE AND THE DECLINE OF A SYSTEM Chapter 11 begins with Michael Lewis himself waiting to meet John Gutfreund, the former CEO of Salomon Brothers and Lewis’s former boss. The setting is the east side of New York City, at roughly the same time that Eisman and his partners were sitting on the steps of St. Patrick’s. Gutfreund had been gracious enough to accept Lewis’s lunch invitation, even though he felt that Lewis’s previous book, Liar’s Poker, had destroyed his own career. Not surprisingly, Lewis had his doubts about how they would get along.
Everything is connected--The chapter is called “Everything Is Correlated,” a probable reference to one of the primary reasons for the current disastrous financial situation, namely, the stupid insistence on believing that things were not strongly correlated—that a subprime loan in one location did not react to the same forces as those in another area; that defaults on the underlying loans would somehow not impact the bonds they underpinned; that the derivatives, the credit default swaps and CDOs, would escape the same fate as the junk that had been stuffed into them; that the misratings by the agencies would not backfire on the financial system; that unethical bookkeeping and investment practices would not sooner or later catch up with the people and firms who participated in them.
Collapse of an entire system--In some ways, that last clause still seemed to be true: after all, the US government stepped in at the last minute to cover the errors of several large organizations whose financial missteps ran into the tens of billions. Lewis’s name for the previous chapter was “Two Men in a Boat.” The government used the taxpayers’ money to cover the errors of large Wall Street investment firms because it knew that if they went down, the whole system would go down. At the beginning of the previous chapter, Lewis cites Italian Finance Minister Giulio Tremonti as naming Pope Benedict XVI as the first predictor of the financial crisis, a prediction based on a 1985 article by another cleric, Cardinal Joseph Ratzinger. That prediction stated that an entire economy would collapse because of its lack of discipline. At the end of the same chapter, as the FrontPoint partners watched the people passing by, they wondered how long the waves of financial mismanagement would take to hit the day-to-day lives of the men and women on the street. Everything still seemed to be business as usual, but how long could that last? When would the final waves of the tsunami hit with obvious street-level repercussions?
Origins in the 1980s--That date quoted above, 1985, takes on a fuller significance in this chapter. Lewis’s point is that the seeds of the current crisis had been planted back in the 1980s, when derivatives like the mezzanine CDO were first generated and future derivatives creators were being trained. Back then, the waves had been just a ripple. Now they had almost taken down an entire financial system. What would be next, twenty years down the road?
Gutfreund didn’t remember meeting Lewis as an employee, even though Lewis had been once asked to explain to him a derivatives trade he had made. He knew him as the author of the book that had destroyed his career and made his life difficult. Lewis describes their meeting as an interesting balance of unease and attempts at establishing at least a cordial connection. In the process, he portrays Gutfreund as a complex combination of courteous, humane, direct, tough, and altogether human. His story was not unlike the stories of other Wall Street CEOs, who admitted to not being fully able to understand or control their firms’ activities. That was not, after all, their job; but in Gutfreund’s case, he ended up paying for his distance.
Gutfreund and Lewis differed in their analysis of financial Armageddon. Both agreed that greed was an issue, but to Gutfreund, greed was the fundamental cause, whereas to Lewis, it was an accepted aspect of Wall Street life that needed a more viable set of instruments for its direction. According to Lewis’s explanation, Wall Street was just a step above Las Vegas in that investments were not that different from outright bets. What he understandably found strange was that no matter what effect these generally misplaced bets may have had on the financial institutions themselves, the people who worked there almost invariably got rich, no matter what side of the bet they had been on or how badly they had blundered. Even Howie Hubler, who had cost Morgan Stanley $9 billion, walked away with more money than he—or anyone—ever needed.
Lewis raises an excellent question at this point: if the system is designed so that no matter what a major investor does, he or she stands to become wealthy, often immensely so, then what reason would people have to be concerned over whether or not their decisions are responsible? Of course, he is asking the question from a purely greed-driven point of view, without any thought of ethics or sociopolitical considerations.
Before he can begin to answer that question, he switches the subject to Gutfreund’s sincere inquiry as to why Lewis even invited him to lunch. We can only imagine that Lewis must have given Gutfreund some sort of answer, but we never find out what it was. Instead, Lewis discusses the different things he may have wanted to say but didn’t. He didn’t, for example, mention that he (Gutfreund) had broken his promise to the original owners, the Salomon brothers, by taking the firm public; that he’d ignored Wall Street’s social and moral values on that issue at the time; and that, in spite of those things, Lewis didn’t view him as being evil. But Gutfreund had made a move that would change Wall Street in significant ways. Salomon Brothers’ business shifted from being predominantly customer and enterprise driven to being dominated by strange and incomprehensible new bets that proved so lucrative that their annual profits outdid those of the rest of the firm. But they also encouraged unethical and unwise behavior, the sorts of choices that would never have been tolerated by a partnership—the overleveraging, the unethical relationship with the rating agencies, the trading of questionable derivatives.
One can only wonder what might have happened had the federal government not stepped in to salvage the situation. The banks and other agencies were falling like dominoes, one after another—first Bear Stearns, then Freddie Mac and Fanny Mae, followed by Lehman Brothers, AIG FP, Washington Mutual, and Wachovia. Some, like Lehman, were allowed to fail altogether; others were saved from total ruin but suffered consequences in one way or another. Oddly enough, the people who were elected to put Humpty Dumpty back together again were the same ones who hadn’t noticed that he was about to fall. They were the leading financial figures in the federal government and the Wall Street CEOs—though a few from the latter group were also fired. Those who had had real foresight were ignored.
The continuation of financial foolishness--Henry Paulson, the U.S. Treasury Secretary, then initiated the TARP (Troubled Asset Relief Program) in late 2008 to cover Wall Street’s investment blunders. Courtesy of TARP, American taxpayers had the privilege of donating $700 billion to fund the survival of such deserving investment companies as Goldman Sachs, Morgan Stanley, Citigroup, etc. As a result, according to Lewis, these firms didn’t even need to recognize their subprime losses. Citigroup moreover managed to scrounge another $306-billion gift out of the U.S. Treasury by pleading potential insolvency. Despite the sizable amount, absolutely nothing was required of Citigroup in return. Just to give some perspective, Lewis points out that that amount equaled more than the sum of the budgets for six different federal government departments, all of which he details in his book. Next, the government, evidently in an attempt to further salvage the situation, decided to buy over a trillion dollars in bad subprime bonds, with the excuse that the failure of a large bank like Lehman Brothers put too much stress on the system by causing a “crisis in confidence.” However, Lewis draws an important distinction between a classic financial panic and what happened on Wall Street in 2008. In this case, people’s perceptions did not cause the problems, as in a classic panic. Instead, the problems were real and severe by the time people realized what was happening.
A question of necessity, validity, and honesty--According to Steve Eisman, the failure or near-failure of the banks and the U.S. government’s intervention meant that something was profoundly rotten with the system. Neither he nor Lewis was convinced that the investment banks were integral to the economy. Nor could a lot of people understand why the material interests of a few elite bankers justified the type and amount of aid given by the federal government. Moreover, there was still something shady about the whole business. In Eisman’s view, no one knows the amount and whereabouts of the market’s outstanding credit default swaps, which could be in the trillions.